The Hedge Fund Report: Convertible Overhang

Hedge funds that practice convertible arbitrage continue to bleed assets and remain one of the poorest performers of any category this year. But here's a secret, according to a hedge fund manager: Convertible issuance is back.

Convertible financings have rebounded because interest rates are up and it costs less for companies to issue these stock-and-bond hybrids than traditional corporate paper. Also, while companies may be sitting on a lot of cash, they've still found uses for borrowed money in the area of share buybacks, acquisitions, and to fund research and development.

With that in mind, says the manager, investors should be wary of certain names that have shown a propensity for convertible offerings in the past. He mentioned First Data(FDC Quote), Radian(RDN Quote) and Weatherford International(WFT Quote). If a company sets a convertible sale, arbitragers are sure to short the underlying stock.

Tough Legacy

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